T Minus 5 And Counting To Economic Armageddon

The debt ceiling debate enters its final act this week as Friday, just five days from now, becomes “D-Day” for a Congressional bill that can be passed and signed in time for the August 2nd deadline.

But the really scary road to Armageddon is that even an extension of the debt ceiling might not be enough to stave off a U.S. downgrade by Standard and Poor’s and Moody’s within the next few months.

We’ll discuss all of this in greater detail in a moment, but for this week, Wall Street Sector Selector remains comfortable with our inverse ETF and put option positions.

On My Wall Street Radar

chart courtesy of www.stockcharts.com

In the chart of the S&P 500 (SPY) above, we see how a classic head and shoulders pattern has developed which is one of the most well known and widely watched indicators of a weakening market structure.

The Economic View From 35,000 Feet

The economic view and economic news continue to be alarming while corporate profits have generally been positive.

Here are the week’s highlights:

Italy remains in jeopardy.
Greek 2 year bond yields jumped to 32%
Italy and Spain 10 year bond yields are at record highs
Eight European banks failed the stress tests
A Euro summit is planned for July 21st to discuss all of these problems
Dr. Bernanke made it clear this week in his Congressional testimony that he has no active plans for “QE3” but will continue with “QE Lite,” his repurchase of securities as they mature.
Consumer confidence fell dramatically from 71.5 to 63.8 last week.

But the big news continues to be the deficit ceiling debate.

It’s a fast moving situation but generally both sides still seem to be digging in to their positions as the clock ticks to the rapidly approaching D-Day.

I would expect that some sort of 11th hour resolution will be reached, however, ideology on both sides is strong and there is an outside chance that political intransigence could take us over the cliff.

However, if the deficit reduction settlement isn’t big enough or convincing enough that we can get our fiscal house in order in the medium term, Moody’s and S&P have made it clear that they could still downgrade the U.S. over the course of the next few months. Therefore, any “Plan B” or “kicking the can” down the road” on the part of Congress could still lead to Armageddon within a few weeks time.

Furthermore, Moody’s now threatens to downgrade entities with close links to Federal debt in the event of a Federal downgrade, and some of those entities include well known names like Fannie Mae, Freddie Mac, the Federal Home Loan Banks, Federal Farm Credit Banks as well as thousands of municipalities. For an in-depth discussion of this topic, see Fiscal Suicide, The Point of No Return,

It certainly appears that the United States is reaching the end of the road on this issue and that if Congress and the White House can’t force a change, the ratings agencies, “bond vigilantes” and global markets will.

What It All Means for Stock Market and ETF Investors

We continue to live through the pages of this financial thriller and the end game now seems to be coming into view. There are opportunities in any market environment and the biggest dangers are always accompanied by the biggest opportunities.

However, it will very likely take more than a buy and hold or stick your head in the sand approach to be successful during the coming weeks and months as forest fires erupt around the world and global policy makers try to stem what is simply a tidal wave of too much debt.

The Business and Financial News Week Ahead

Obviously this will be a critical week ahead.

The focus will be on the debt ceiling debate and market reaction to whatever settlement is eventually reached (or not) and on what happens in Europe.

Major earnings announcements will come nearly every day with Coca Cola, Bank of America, Wells Fargo, Goldman Sachs Johnson and Johnson and Yahoo! on Tuesday, Apple and Intel on Wednesday, Morgan Stanley and Microsoft on Thursday, and Caterpillar, McDonald’s and Xerox on Friday.

Also, major economic reports on the still beleaguered housing market and manufacturing are due mid-week.

Tuesday: June Housing Starts, June Building Permits

Wednesday: June Existing Home Sales

Thursday: Initial Unemployment Claims, Continuing Claims, Philadelphia Fed, June Leading Indicators,